Fixed Price (FP) vs Time and Materials (T&M) Model

The first and perhaps one of the most important decisions that a project manager and business owner can make at the start of cooperation with agency is in determining the workflow model.

You, as a business owner, should have an opportunity to clearly estimate invested time and resources and know what returns you will be getting. However, software development projects combine multiple processes and intertwine with other fields — this versatility surely doesn’t make estimation easier.

In this post, we’ll review the two most common cooperation modes. What does time and materials mean? What’s a fixed price? — are questions we're going to answer. We’ll review these strategies individually and later compare the respective benefits and disadvantages.

What is a Fixed Price Model?

The fixed price contract is a precise agreement on a particular time and cost, where a service provider guarantees to deliver the described results on specified terms. Such a system allows service providers to predict project delivery dates, rates, and requirements. The product owner gets a clear picture of the work scope and its pricing.

A fixed price requires a clear understanding of the project from every team member. The client should have a clear idea of the result, ideally well-defined technical specifications of the project as well.

Here are some details that you need to clarify to get an accurate fixed price:

The project is simple and solves a single problem of the end customer — there is a well-defined goal that needs to be accomplished;

The company works with a limited budget — there is simply no way to push the costs in case of emergencies;

Rich experience of the product owner — if the client is well-versed on software development details, it will be easier to devise a clear strategy from the get-go.

Where to use the Fixed Price model?

This cooperation system is used for minimum viable products. It’s not necessarily the best-suited option for MVP development; however, startups often have to work with limited budgets and within strict deadlines. Hence, fixed price is more of a necessity than a choice — but it’s a sure way to predict the end outcome.

A fixed price is the best choice for small projects or routine work that the company performs regularly. If a company needs to run recurring tests or fix similar issues, it will be easier for the client and contractor to predict the end outcome accurately.

Advantages of Fixed Price

Fixed price is a sure way to deliver a particular result, thus business owners can plan their expenses. Over the years, fixed price model came out to have several key benefits versus other models, often crucial to software development projects.

Precise pricing — a product owner knows exactly how much to invest. With a correct estimate, it’s possible to analyze the cost of each service and devise clear priorities at the early stages of the project.

Clearly defined deadlines — when a business is faced with strict deadlines, fixed price allows businesses to ensure that the project’s completion terms won’t be pushed further.

Predictability — a business owner can easily plan other company expenses, distribute the budget of the company without having to face unexpected additional costs.

No micromanagement — fixed price allows a business owner to bypass constant monitoring and fully outsource the project. When you have a precise estimate with all outlined details and end outcomes, you don’t have to constantly check up on the cost changes.

A fixed model is perhaps the most viable one for routine tasks, and it works well for young companies too. Not all product owners want to spend their valuable time overseeing the project, and sometimes, it might not even be the firm’s main priority. Fixed price requires less involvement from the product owner, and it brings clarity to project management.

Disadvantages of Fixed Price

Despite its numerous pros, fixed price is by no means a perfect cooperation system. When a business owner and development team try to estimate the project’s progress early on, crucial details get overlooked — and it might have disastrous consequences for the end product. Let’s take a look at the model’s main cons and their implications.

Limited flexibility — the development team can’t adapt to unexpected risks. A business owner can’t adjust the budget if a cheaper solution was found. The client ends up either underpaying or overpaying for the project — in both cases, someone is at a loss.

Time-consuming planning — it takes long brainstorm sessions and evaluation calls to analyze all possible issues and predict correct outcomes. The more complex is the project, the more difficult it is to get started since new details always come up.

Miscommunication issues — the fixed price doesn’t encourage the team to report to the client about making progress and possible risks. The product owner is often kept in the dark since developers prefer to refer to estimation instead.

Software development is a dynamic process, and the work scope fluctuates depending on the market, audience interests, and company’s development dynamics. With fixed contracts, project stakeholders can’t take this crucial aspect into account.

What is a Time and Materials Contact?

Time and materials pricing uses hourly rates as a billing basis. Here, the development team does an estimate of the work scope based on hour count and provides the hourly rate for a particular service. The additional report covers the cost of materials — tools, hardware, additional expenses.

This model doesn’t provide the precision of the fixed price — both parties have a right to offer new conditions as the project moves along. A product owner can suggest adding new features or removing the ones that were discussed beforehand. The development team updates the client on the progress, forecasts the process, and continuously looks for cost reduction methods.

Where to use a T&M pricing model?

A complex long-term project with flexible requirements;

The project scope is always fluctuating, and it’s difficult to predict the next stages;

The end product intersects with other fields, and some factors don’t depend on the development team.

A time and materials contract is best suitable for projects that target big audiences, offer complex functionality, or provide a drastically innovation. Typically, if a client and development team is bringing new technology to the market, they might overlook a potential risk or a cheaper solution that might present later on. Time and materials formula takes these unforeseen events into account.

Advantages of a Time & Materials model

Time and materials has been conquering the market relatively recently, but it perfectly reflects the needs of modern software development projects.

Flexibility — unit-based agreements allow changing of the number of hours as the project moves along. This allows changing work volumes, modifying project requirements, ideating new functionality on the way, and shift development to different vectors depending on market trends.

Adaptability to changing workloads — a development team and business owner can agree to spend more or fewer hours on a particular feature, instead of blindly following the anticipated schedule. This allows prioritizing quality over quantity and delivering the best results, instead of short-term patches.

Fast decision making — stakeholders don’t have to discuss the project in every detail before getting started. These discussions are also dynamic and happen throughout the project — hence, there is less pressure at the initial stages.

Dynamic pricing — developers can present business owners with dynamic pricing estimates. If a feature requires more time, the execution will be more expensive. On the other hand, if the project can be completed faster, the product owner saves the budget.

Now stakeholders value flexibility just as much as they appreciate predictability — it’s important to have a right to make new executive decisions as development progresses.

Disadvantages of Time and Materials Agreements

The high flexibility of time and materials comes at a cost. Compared to fixed price, it offers an opposite approach, and some benefits of fixed contracts end up neglected.

Unclear metrics — the product owner can face trouble deciding if spent hours were productive. There is a risk of unreasonable cost fluctuations, especially if the team fails to communicate its internal strategy to the product owner.

Constant control needed — a client has to oversee whether the paid hours are being distributed effectively.

Complicated planning — there is no way to precisely distribute the company’s budget for the long-term. Some companies provide reliable estimates even on time and materials, but they don’t provide a 100% guarantee that these estimates will be met (it's simply impossible to do).

Time and materials can be a perfect cooperation model if a business owner and development team achieve perfect understanding. For this, a project manager has to devise a working communication system and constantly report on the project. Usually, it’s done on daily calls and team standup meetings.

Time and Materials Vs Fixed Price — What to Choose?

These two business models are drastically different, and they emphasize different companies’ priorities. One system values predictability while another seeks for productivity. Let’s take a look at the bigger picture by analyzing these models by several key criteria.

Budget

Fixed Price works best for projects with limited budgets and strict deadlines. When you are faced with restrictions you want to prioritize clarity over flexibility.

Time and materials model can allow budget fluctuations, and it’s best to use if both a client and development team are constantly looking for cheaper solutions. Then, at the end of the day, a time and materials product can be significantly cheaper — because the conditions were optimized during the project.

Speed

What’s faster — fixed price or time and materials? Well, fixed price is faster in the long run, but it also entails a long planning stage. If done wrong, this delayed start can stall the project’s progress from the get-go.

Also, there is a huge risk of having to redo certain aspects, because a team overlooked some technical issues or fail to optimize the requirements. Fixed price can be used for quick fixes and patches, but it’s a solution for long-term projects.

Time and materials model offers a fast start — it’s perfect for experienced teams. On the other hand, the lack of communication can drag the project on. With proper planning, however, time and materials is the most viable model for long-term projects.

Flexibility

Fixed price is not a flexible cooperation model — it doesn’t motivate developers to implement better solutions, continuously seeking for optimization. The client also has limited freedom of introducing new requirements — it would be a different cooperation model then.

Time and materials is the most flexible cooperation model. Stakeholders can introduce new requirements and conditions at any moment.

Time efficiency

A fixed price allows one to achieve a determined result within a defined duration, but it’s not necessarily the best solution. Oftentimes, a project can be completed faster than anticipated — but these options are overlooked by stakeholders.

Time and materials model is based on time efficiency — each task is estimated individually and the entire project is analyzed on an hourly basis as well. However, it requires smooth constant communication, otherwise, the tasks can get dragged on.

Reliability

Fixed price offers reliable long-term estimates at the early stage of development, some teams also offer reimbursement. Using such a model when working with new contractors is the safest way of establishing trust — later, both stakeholders can agree to switch to flexible models.

Time and materials isn’t necessarily as reliable since it heavily depends on mutual trust, established between project stakeholders. In a way, this model relies on the experience of a development team and product owner.

Long-term VS short-term projects

Fixed price works better for short-term goals — it’s convenient, clear, and reliable. With short projects, you see the end goal, and devising a strategy shouldn’t be a problem. However, trying to estimate a complex project in detail from the very beginning, will simply lead to misunderstanding and delay the start of the project.

Time and materials is the best solution for complex projects. There is no way to determine every step beforehand when you develop an innovative platform, a high-tech solution.

Predictability

In the fixed price model, the development team provides the product owner with the full time and resource estimation, as well as a full report on risks with possible buffer costs. These estimates are imprecise since there is no way to fully predict difficulties early on.

Time and materials doesn’t provide the same level of clarity. At the very beginning, both parties have a vision on their next step and an idea of the result — but the exact strategy and cost can fluctuate.

Time and materials contract vs fixed price: comparison table

Criteria

Fixed Price

Time and Materials

Budget

Defined

Not defined clearly

Speed

Slow at first stages

Final stages can get dragged on

Flexibility

Limited

High

Time-efficiency

Doesn’t encourage optimization

The deadlines and costs can be revised at any moment

Reliability

More guarantees

Depends on mutual trust between stakeholders

Project length

Short-term

Long-term

Predictability

High

Medium

Now that you have a clear idea of how the difference of fixed price vs time and materials, let’s talk about practical insights.

Our experience

Theoretically, fixed price, time and materials, and other models have their benefits and drawbacks. However, the reality is often different. In our experience, we see that, more often than not, predicting accurate outcomes at the early development stages is impossible.

Typically, the fixed price model leads to the following management issues:

the estimation is never precise, and the client ends up paying more or less than the actual cost of the project;

the project ends up dragged on — in reality, the client wants to introduce new features, and stakeholders have to constantly change the agreement;

even if the team breaks down the projects in key stages, the delivery of each stage takes longer than anticipated because interested sides always have to re-negotiate the conditions.

Hourly estimates of time and materials provide a precise evaluation that takes into account code issues, delays, internal business logic. Also, this contracting system is perfectly compatible with Agile sprints — the project is broken into separate stages with reviewing, testing, building, designing, and planning.

At Gearheart, we start every project with detailed evaluation — our clients get a full rundown of our previous similar projects. Product owners and company managers get access to time-tracking reports and development servers. The billing is conducted on a per-minute basis — the client has a clear idea of what was accomplished during the reported time.

Conclusion

There is no perfect one-for-all solution, but you can pick the workflow that fits your project and goals. Both fixed price and time and materials offer their advantages. In our experience, the best strategy is to make the most out of the difference between the two.

Our team provides precise estimates early on, based on our previous projects and detailed market analysis. However, we also leave room for potential optimization — the estimation is revised at the end of each sprint. If you would like us to estimate the cost of your project, get in touch with our team.